Sir, won’t you buy this bridge and the Employment Guarantee Act?

November 2, 2004by atanu

The converse concept of bounded rationality, it seems to me, must be unbounded stupidity. So is the statement that humans exhibit bounded rationality merely an euphemism for the fact that humans are prone to unbounded stupidity?

A moment’s reflection should convince us that the world around us is definitely complex and we cannot really fathom what the consequences of our actions will be. The best we can do is to try to learn from our previous bouts of “bounded rational” actions and try to avoid being unboundedly stupid.

Here is where one starts wondering what is it that I am going on about. I was coming to that.

It all began when recently my friend Dr Malpani emailed me about the Employment Guarantee Act, the details of which you can find here.

There seems to have been some sort of convention (details) where they adopted a resolution outlining the “non-negotiable” features of an acceptable EGA. These include–

a permanent and universal work guarantee, extension to the whole of India within three years, payment of minimum wages in all circumstances, central government funding, safeguards for the interests of women, decentralised implementation, and full transparency at all levels, among other features.

More about this later. But now, let’s go to Niger, the second largest country in Africa. Extremely poor and definitely overcrowded. Soil erosion, desertification, frequent famines, flash floods, lack of water — the usual laundry list of mini-disasters. So what did they do? They decided to dig trenches and wells to stop the flash floods and thus prevent further soil erosion which was causing desertification. Then they realized that it was actually leading to more desertification, instead of less. They had to cut back on their policy of digging wells for farmers to water their cattle.

A Niger government official explains:

Wells attract animals. Animals eat the vegetation. Because the wells attract so many animals, the vegetation never gets a chance to grow back. Which is the beginning of desertification, the very process that the wells were designed to prevent.

Considered in isolation, having wells for increased vegetation is a good thing if you want to prevent soil erosion. The problem occurs when there are other confounding factors such as too many animals. If the system has multiple distortions, trying to address one of those distortions without regard to the others, could lead to unintended undesirable outcomes and make the system worse off than before.

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Here is another one from a different part of the world. A world with cars and computers, and roads and highways. And often heavy traffic congestion. It would be clear to the meanest intelligence that to ease traffic congestion, you have to build new roads and highways and widen existing ones. Except that sometimes doing so only worsens the congestion. Totally counterintuitive.

There is no shortage of hard data. A recent University of California at Berkeley study covering thirty California counties between 1973 and 1990 found that, for every 10 percent increase in roadway capacity, traffic increased 9 percent within four years’ time…This phenomenon, which is now well known to those members of the transportation industry who wish to acknowledge it, has come to be called induced traffic…

The mechanism at work behind induced traffic is elegantly explained by an aphorism gaining popularity among traffic engineers: “Trying to cure traffic congestion by adding more capacity is like trying to cure obesity by loosening your belt.”

Here the confounding factor is that there is supressed demand for more road transportation and as the supply of the road network expands, the demand is expressed to the point where the roads are once again as congested as before and therefore the private cost of using the road once again exceeds the benefit and people stop using the road.

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One more case in point. This time from the development literature. Urban unemployment is a common feature in underdeveloped economies. Both in the organized (or formal) sector and in the informal sector, urban unemployment leads to a whole host of symptoms such as gigantic slums, urban crime, etc.

Once again, the no-brainer solution is simple: increase employment opportunity in urban areas so that the unemployment rate goes down and thus cure the associated problems. Unfortunately, it is not that simple. By stimulating job creation in the urban sector, one can make the unemployment levels actually increase. How does that come about?

The confounding factor is that there is a vast pool of labor in the rural sector and the average wages in the rural (agricultural, mainly) sector is lower than the wages in the urban (modern) sector. This leads to rural-urban migration. By raising the probability of finding employment in the urban sector through policies that create more urban jobs, it accelerates rural-urban migration and perversely raises urban unemployment. (For details, see the Todaro model.)

The Todaro model has strong policy implications regarding development strategies. For example, efforts to reduce urban unemployment by stimulating job creation in the urban modern sector are likely to be stymied eventually, in that they will raise the likelihood of finding a good job and hence induce a greater flow of rural migrants. Todaro has argued far and wide that the best strategy to reduce urban problems in developing nations is to seriously promote rural development (economic opportunities plus amenities like health care and education).

Which brings us back to the Employment Guarantee Act.

It is a no-brainer that the EGA will make the poor better off all across the length and breadth of India. It will raise hundreds of millions out of poverty. India will finally become a wonderful developed economy. Oh why didn’t we think of this before?

If you believe that, I have a red-colored bridge across the Golden Gate which I would dearly like to sell to you for a throw-away price of only $10,000. Send me a check and I will Fedex you the title to the bridge. It is a very nice bridge. The view is totally incredible. People come from all over the world and take tons of pictures. You will not regret your purchase. Money back guarantee if you are not fully satisfied with your purchase. To the first 100 people who send in their checks, I will throw in the Bay Bridge as a free bonus in the whole deal.

Here, I will go out on a limb and predict that if ever this EGA is implemented, it will actually increase the level of poverty and the number of poor in India. It will drag those at the margins of poverty deeper into poverty. The only guaranteed effect will be an absolute increase in the amount of corruption and some politicians will make obscene amounts of money.

I was reading Frederic Bastiat, That Which is Seen, and That Which is Not Seen.

He makes a wonderful point,

*Between a good and a bad economist this constitutes the whole difference – the one takes account of the visible effect; the other takes account both of the effects which are seen, and also of those which it is necessary to foresee.*

And this gem on public works encourages labour,

*As a permanent, general, systematic measure, it is nothing else than a ruinous mystification, an impossibility, which shows a little excited labour which is seen, and bides a great deal of prevented labour which is not seen.*

When will the fools learn?

Suhit.

Dr Malpani

One question comes to mind.
Why do so many people get these basics wrong again and again ? Aren’t they economists too ?
Or is it that they can’t see beyond their idealised solution ?

http://nanopolitan.blogspot.com Abi

While the examples you used were good stories that would evoke a few wry smiles, I am not at all sure that they “prove” that EGA will not achieve its objectives.

This post was written more than two months ago, and it looks like you have been meaning to write a longer piece on it; you concluded it with: “As they say on TV, stay tuned. Details at 11″. Perhaps other things/events have intervened to take your attention away from this issue. But, I just want to let you know that I would really, really like to see a substantively reasoned argument against EGA.